Relations between Iran and Britain deteriorated sharply yesterday when it emerged that the Iranian ambassador to London had returned to Tehran and may not return.

The Iranians are angry over two separate issues: the detention in Britain of an Iranian diplomat wanted in connection with a terrorist attack in Argentina almost 10 years ago; and western pressure on Iran over its alleged nuclear weapon ambitions.

The ambassador, Morteza Sarmadi, flew home after failing to win any compromise from the foreign secretary, Jack Straw, at a hastily arranged meeting at the Foreign Office on Monday.

A diplomatic source in London said that although officially he has returned for consultations with his superiors, "he may not return".

Such a diplomatic breakdown could prompt Iran to expel the British envoy to Tehran, Richard Dalton. Iranian newspapers controlled by the country's hardliners have been calling for his expulsion.

A Foreign Office spokesman last night played down the row, saying the relationship could still be rescued: "We understand that the Iranian ambassador has returned to Tehran but this is not a downgrading of relations."

The arrest last month of the Iranian diplomat Hade Soleimanpour, 47, who had been studying for a doctorate at Durham, has complicated matters. He was detained after an extradition request from Argentina in connection with a bomb at a Jewish centre in Buenos Aires which killed 85 people in 1994, when he was Iran's ambassador to the country.

The arrest came at a delicate time for relations with Iran, with the US pushing for UN economic sanctions against the country unless Tehran can prove it is not building a nuclear weapon. The issue is to come to a head next Mon day when the International Atomic Energy Agency reports on whether Iran is in breach of its international obligations.

President George Bush last year portrayed Iran as part of an axis of evil along with Iraq and North Korea. Unlike the US, however, Britain restored diplomatic ties four years ago.

If the row escalates, the Foreign Office is almost certain to warn Tehran that Britain is one of its few friends in the west and, with the nuclear issue looming, it should not do anything to jeopardise it.

The British government has also been dangling over Tehran's head a trade agreement with the EU and that too could be lost in the row.

Mr Straw has made several trips to Tehran over the past two years, the latest in July. The trip was strained by the nuclear issue but Mr Straw said at that time that his door would always be open to the Iranian ambassador.

Mr Sarmadi took him up on that offer on Monday to see if Britain was prepared to offer some concession on the arrest of the Iranian diplomat and to provide help in fending off US pressure on the nuclear issue. According to diplomatic sources, he felt he left empty-handed.

The Iranians are arguing that instead of pursuing an independent policy towards Iran, Britain has fallen into line with the US.

The US is pushing for the IAEA to declare in its report that Iran is in breach of its obligations not to build a nuclear weapon. Britain shares the American suspicions, though Iran denies the allegations.

The US is said to be lobbying the non-aligned members of the 35-country IAEA board, which at present seems to be opposed to action against Iran. The latest draft of the IAEA report, dated August 26, says Iran "has demonstrated an increased degree of cooperation in relation to the amount and detail of information provided to the agency and in allowing access requested by the agency to additional locations and the taking of associated environmental samples".

The success of US pressure will be demonstrated if next week's report switches to a hard line.